[Anonymous]

Mill Co.’s trial balance included the following account balances on December 31, 20X1:

Accounts payable $15,000
Bonds payable (due 20X2) 25,000
Discount on bonds payable (due 20X2) (3,000)
Dividends payable 01/31/X2 8,000
Notes payable (due 20X3) 20,000
What amount should be included in the current liability section of Mill’s December 31, 20X1, balance sheet?

Answer: $45,000

Would someone please explain why discount is subtracted from BP rather than added here?
I’m mixing up contra with subtraction but has same natural cr balance so why not added?

[neaux]

My understanding is that the carry amount of the Bond is 22K. A discount on B/P has a normal debit balance (contra liability) and B/P has normal credit balance.

[vodrldnr]

Look at the question itself.

“What amount should be included in the current liability section of Mill’s December 31, 20X1, balance sheet?”

On Balance sheet, what amount do you have to report on B/S ? It is carrying amount (=Net amount after any discount or premium).

[Anonymous]

Thank you both. My mistake was not realizing that discount on bonds is a contra liability, not a contra asset, with natural debit balance.
Discount contra liability for bond seller, but discount on bonds is debited to decrease it, which means natural credit balance.
I'd be appreciative if someone would explain this to me because just when I think I have it I don't. For example:
On July 1, Year 1, Pell Co. purchased Green Corp. 10-year, 8% bonds with a face amount of $500,000 for $420,000. The bonds mature on June 30, Year 9, and pay interest semiannually on June 30 and December 31. Using the interest method, Pell recorded bond discount amortization of $1,800 for the six months ended December 31, Year 1. From this long-term investment, Pell should report Year 1 revenue of:

A.
$16,800.

B.
$18,200.

Incorrect C.
$20,000.

D.
$21,800.

You answered C. The correct answer is D.

If bonds are purchased at a discount, then the discount is immediately recorded as a credit in the acquiring corporation’s books. As the discount is amortized, it is thus debited, to decrease it. When cash is received as interest, the additional debit to amortize the discount adds to the debit to cash to increase the total credit to recognized revenue.

Therefore, the total revenue for the year will be the cash received as interest over the semiannual period, $500,000 (face amount) × 0.08 (8%) × 6/12, or $20,000, plus the $1,800 discount amortized, for a total revenue for the year of $21,800.

[vodrldnr]

The correct answer is D.

Pay attention that “it is semiannual”. you divide the interest rate by 2

What I recommend is to draw picture

|———————Bond issued at premium
|
|————————————face amount
|
|—————–Bond issued at discount

At the end of day, whether bond is issued at discount or premium, the value should be at the face value.

As time goes by, the amortization will be added to the carrying amount of bond in case of discount

With this concept, read the question again.

it is asking the revenue from investment for the year.

Interest income = Market rate * carrying amount of bond
Cash =Face value * coupon rate

we do not know market rate for this problem but we still solve this using the amount of amortization for the year, coupon rate and face value.

when we determine the amount of amorzaitcon to get the carrying amount for bond

we do like this

“Interest income -Cash received= amortization”

simply plug in the information you have.

???? – 20,000 = 1800

???= 2,1800

Answer : D

[Anonymous]

Thank you @vodrldnr, your explanation helped me get this.

[Author]

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